This piece originally appeared in the May 2022 edition of MReport magazine, online now.
Raymond Eshaghian serves as President and Founder of Greenbox Loans Inc., a wholesale lender specializing in non-QM/nonprime loans. Eshaghian has more than 30 years of experience in mortgage lending in executive and principal roles, with vast experience and expertise in the non-QM market. MReport recently had a chat with Eshaghian about the benefits of debt service coverage ratio (DSCR) loans, their rise in popularity, and how they differ from standard non-QM products.
What are DSCR loans, and what makes them a good option for first-time buyers?
Debt service coverage ratio loans, better known as “DSCR” loans, enable a borrower to finance a property without having to personally qualify with their own income. The property is qualified instead, using its rental rate divided by the debt associated with it, such the loan payment, taxes, insurance, and HOA fees, if any. That number is the ratio. A ratio of one or higher indicates the borrower will earn enough from the property to pay off the loan.
The great thing about DSCR financing is that you also do not need to be a millionaire to use these products and start building real estate wealth. Investors can also deduct property depreciation from their taxes, and receive tax credits for purchasing low-income housing. All-in-all, DSCR loans are a great financing vehicle for experienced and first-time investors.
What is spurring the rise in popularity of DSCR loans?
There are several factors, really. The most obvious is the growth of property values and rents, which have made real estate investing more attractive for new investors. In fact, Realtor.com recently did a rental analysis for properties with two or fewer bedrooms in the 50 largest U.S. metro areas and found the median rent has jumped 19.3% between December 2020 to December 2021. Another reason is that DSCR loans offer long-term financing at reasonable terms, which make them an excellent option for private money or “hard money” loans.
Aren’t DSCR loans typically used for commercial properties?
Traditionally, that has been true. But today, they are being used for almost any type of property, including mixed-used and condos. In fact, currently, we are doing an astounding number of DSCR loans for non-warrantable condominiums. The formula used to calculate the ratio for one- to four-unit residential properties is similar to the formula for commercial properties, only much simpler.
Still, these are non-QM loans and there are key differences between them and the average 30-year fixed loan. If you plan to sell DSCR loans, it helps to have a partner that specializes in them.
Why would investors choose these loans instead of hard money loans?
DSCR loan programs are traditional mortgages with 30-year financing, whereas hard money loans are typically only one to two years long. That means with hard money, the borrower must refinance repeatedly and pay high points and fees if they decide to hold onto the property. Borrowers with high credit scores can also get a DSCR loan for as little as 20% down. Many Americans have enough equity in their homes to use as a down payment on a rental property. In addition, by agreeing to a slightly higher rate, investors can even get “no ratio” DSCR loans for properties with slightly negative cash flow.
Generally speaking, how well do Mortgage Brokers and Loan Originators understand these products?
Because DSCR loans are becoming more popular for residential investing, most originators have a basic understanding of how they work.
In particular, Mortgage Brokers are paying more attention to these alternative non-QM programs to provide more options for their clients. That being said, there are still some misconceptions out there. The most common myth is that a borrower qualifies for a DSCR loan the same way they qualify for a regular mortgage. The truth is that it is the property being qualified, not the borrower. Yes, a borrower needs good credit. But there is no income or employment verification that takes place, and no TRID requirement. It is the income from the property that matters.
What is your outlook on DSCR loans through 2022 and beyond?
Right now, demand for DSCR loans is going nowhere but up.
Given the nation’s shortage of housing inventory, home values and rents should keep rising for the foreseeable future. There are also a growing number of people who prefer real estate investing over stocks, and they are excited about building a long-term real estate portfolio.
DSCR loans are simply one of the easiest and most versatile ways for ordinary Americans to start investing. They’re also a fantastic way for Mortgage Brokers and Originators to tap into the real estate investor market and grow their business.